If I start some dialog-based applicationfrom the service, like notepad - it is visible.
Also, if checking "allow this service to interact..." in the services applet does not do anything, will doing it programmatically work?

Server 2003 should support 'SERVICE_INTERACTIVE_PROCESS' as well as setting that in the control panel. BTW, you could also use the following technique to launch an application in the security context of the logged on user:

I am afraid that this would require opening the window station, adjusting the privileges etc. - IOW a lot of effort. I'd rather recommend to use an application that is launech in the user's context and with which you communicate with some IPC means if you need to display any status updates or something similar.

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